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CH11 - Chapter 11 Put and Call Options 11-1 Call Options A...

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11-1 Put and Call Options Chapter 11
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11-2 A call option is the right to buy an underlying security at an exercise (strike) price during a stated time interval. C = Market value of the call option. P = Market value of the underlying asset. E = Exercise price (strike price). Call Options
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11-3 Expiration Would like to find value here 0 But first need to determine value here
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11-4 Value of call option at expiration, E = $100 P < E P = E P > E e.g., P = 90 P = 100 P = 110 C = 0 C = 0 C = P – E e.g., C = 10 out-of-the-money at-the-money in-the-money
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11-5 If C < P - E at expiration Suppose P = 110, E = 100, C* = 6. Arbitrage: Buy Call -6 Exercise -100 Sell Underlying +110 Arbitrage Profit +4 Arbitrage Guarantees That C = P – E
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11-6 Case of C > P – E: Suppose P = 110, E = 100, C** = 17. Arbitrage: Write Call +17 Exercised +100 Buy Underlying -110 Arbitrage Profit +7
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11-7 Value of call option before expiration, E = $100 P < E P = E P > E e.g., P = 90 P = 100 P = 110 C > 0 C > 0 C > P – E e.g., C > 10
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11-8 Arbitrage Arbitrage Feasible call prices C P – E P P E Call Option Bounds
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11-9 Time 0 Write Call +C Buy Underlying -P C – P > 0 Expiration P < E P = E P > E Sell Underlying +P +P = E Call Exercised +E Net +P +E +E Arbitrage if C > P
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11-10 Expiration Determine Profit or Loss Overlooking Dividends and Interest Take a position 0 Close entire position Profit Profiles
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11-11 Expiration Buy or Call -4 0 Close: Exercise if in-money. Let expire if out-of-money.
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11-12 -4 - 4 Price of underlying at expiration 98 100 102 104 Buy call -4 Exercise call at expiration Sell underlying acquired from exercise Net profit = - C -4 Net profit = – C – E + P -2 0 -4 -100 +102 -4 -100 +104 Profits or Losses for Call Buyer
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